RPT-Indian bank finds profits where others fear to tread

MUMBAI, Feb 25 (Reuters) - Starting three years ago with a
business remodelling plan, India's Ratnakar Bank has ventured
where few deposit-taking lenders have gone before.

The private equity backed company, whose top ranks are now
filled with pros from Wall Street banks, has expanded its
business into India's poor, rural areas, a tough market long
neglected by the country's financial groups.

That market is showing promise. Ratnakar reported a fivefold
increase in net profit to nearly 657 million Indian rupees
($12.15 million) in its last fiscal year. It aims to nearly
double its branches to 200 and to list shares in 2014 or 2015,
in what would be the first Indian bank IPO in eight or nine
years.

Ratnakar, with roots in rural parts of Maharashtra state,
makes about one-third of its loans to farmers, small businesses
and low-income consumers - a target base that normally operates
outside India's banking system.

"It is interesting that now, finally, they are doing what a
bank should be doing: bring surplus money from urban centres and
deploy it where it is needed," said Vijay Mahajan, founder of
BASIX Group, an Indian microfinance institution.

Mahajan estimates the market opportunity at about $50
billion in revenues for lenders in a country where about half of
Indian households do not have bank accounts.

Ratnakar is emerging as an outlier with a profitable model
for India's 500 million low-income borrowers. In India, more
than two-thirds of bank loans are to companies, and retail
banking is largely focussed on families with disposable incomes.

The bank is using the deposits it takes from urban customers
and extending loans to rural borrowers, with an eye toward small
businesses such as tea stall owners, cobblers and people who
typically do not have access to banking services.

In 2010, the 70-year-old bank took a strategic decision to
modernise itself and hired professionals, including its CEO,
from global banks. A year later, it raised about $130 million
from investors including HDFC Ltd, Norwest Venture and
Beacon Private Equity.

It is in the process of raising another $55 million and
expects to close the deal within a few days, said Rajeev Ahuja,
a Citigroup veteran who is now Ratnakar's head of
strategy.

The bank's rural push follows a government-led initiative
meant to encourage lenders to India's outskirts - a plan met
with fears that money would be wasted on poor customers and bad
loans. (To read a related story click on )

Indeed, Ratnakar faces a tough environment.

"It is still a new bank with a new management team and the
operating environment is still challenging, hence we remain
cautious," said Karthik Srinivasan, senior vice president at
ICRA Ratings.

Dhanlaxmi Bank, a small south Indian lender, went
through its own modernisation, only to suffer operating losses.
The bank made a big push into major cities and was hit by heavy
competition and funding shortages.

By contrast, Ratnakar is targeting tea stall owners and
cobblers - businesses historically dependent on loans from
family and friends, loan sharks, or microfinance institutions.

Microfinance institutions, or microlenders, tend to have
more flexible credit policies but can charge up to 24 percent
interest compared with banks that charge 13 to 16 percent. In
India, a regulatory backlash due to high interest rates and
aggressive collection tactics slowed the development of
microlenders, with many going out of business.

That trend opened the door for Ratnakar, and others.

ICICI Bank, India's No. 1 private sector lender,
opened 101 so-called "grameen", or rural, branches in regions
without banks in December alone, bringing its total to 400.

To fund its loans, Ratnakar pays high deposit rates -- 5.5
percent on savings accounts, compared with 4 percent at most
Indian banks, and its total deposit cost averages 8.9 percent,
compared with the industry average of 6 percent.

Ratnakar's operating expense of 2.67 percent of average
assets is higher than the industry average of 1.7 percent.

"Cost is high, but I don't think costs will always remain
high," said Ahuja, Ratnakar's head of strategy. "As we build
scale, cost of servicing and acquisition comes down."

Vishwavir Ahuja, Ratnakar's CEO, ran the Indian operations
of Bank of America for 27 years. He took over his
current role in a 2010 management overhaul that brought in a
handful of executives from Wall Street and global banks.

The bank's net interest margin, a key gauge of
profitability, stands at 3.58 percent compared with 3.07 percent
for ICICI.

COWS

Rural banking involves a lot of risk in a country where a
majority of the population lacks financial literacy and credit
culture has yet to evolve. Poor Internet connectivity in the
hinterland along with meagre savings and disposable income in
the villages add to the challenges.

Even so, spending in rural India, which accounts for about
68 percent of total households in the country, outpaced that in
urban areas between fiscal years 2010 and 2012, the first time
in nearly 25 years, according to Crisil Research, indicating
these markets could present better opportunities.

For Ratnakar, capitalising on that means thinking small. The
bank, for example, lends up to $450 to women deep in Maharashtra
state to help them buy cows.

"All banks are seeing this as a great opportunity," said CEO
Ahuja.
($1 = 54.0850 Indian rupees)
(Editing by Tony Munroe, Michael Flaherty and Ken Wills)